Soundbites: The Diverse Strategies of Engagement

In this podcast, Francis Byrd of Byrd Governance Advisory discusses his experience with the shareholder activism, the major players involved and what it has to do with improving prospects for employees.

Can you talk about the work that you do both with corporate boards and with activist investors?

Let’s talk about issuers first. Issuers essentially need assistance often times with describing how they do what they do. Describing how they have their governance processes set up, what sort of ESG processes they have, what they’re doing in CSR and I assist with helping them put those things all together.

They might have information scattered across different types of reports, they might not have anything in the proxy [or] they might have a CSR report. They’re missing pieces and I help them put those missing pieces together. I also help them explain to shareholders exactly what it is that they’re doing or looking to do. I found that many companies may have great processes in place, but they typically haven’t described those to shareholders in the past and they need a little help doing that.

In terms of shareholders, many of whom are Taft-Hartley fundsor public pension funds—when I was on that side representing both the state of Connecticut and New York City, it’s a little bit different. Many funds, particularly smaller funds, endowments and foundations are looking to figure out, "what should I do on ESG? How do we get our feet wet?" Can I explain it to them and put them in a place where there are several different menus or a large buffet of potential activities that they can engage in including how to engage with companies?

Engagement, in my opinion, runs the gamut from writing a letter to filing a shareholder proposal. There are some extremes out there at the ends and then there’s of course just [voting] your shares. Smaller institutions and investors have the opportunity to use any and all of those in an effective combination to engage with their portfolio companies.

So you mentioned ESG, which stands for environmental, social, and governance practices, and CSR which stands for corporate social responsibility. There are up-and-coming investors who care about climate change, they care about the "prison industrial complex." Can you talk a little bit about what kind of opportunity and pressures you’re seeing as this trend continues in this area?

There has been, for the last couple of years, building interest in ESG on the part of investors. I find in the last, certainly six or eight months, that many investment consultants who work with their investment clients have been coming in to me and asking questions about ESG. About what their clients could potentially do, about how their clients can be involved, as well as about the purely investment side, outside of the use of the proxy or leveraging the investment holdings, to try and make changes at individual portfolio companies, or at a cross section of portfolio companies in a specific sector.

And I think much of that comes from two different things. One, both European investors and European funds have had maybe 15 years ahead of the U.S. Certainly ESG has been talked about a lot by the big public pension funds and many others. But there’s been much more diligent practice on the part of European investment asset owners and asset managers.

I think the leading companies, the large fortune 100, fortune 200 companies are trying to think through what’s going to happen next. I think many of them take both ESG and CSR seriously and are striving to find ways to make some of those connections.

And as there’s more global competition with U.S. managers seeking to try and manage funds overseas. They show up and someone goes, "Well talk to us about your ESG." So they’ve had to spend more time paying attention to this and being prepared to talk about it.

As a result there’s greater interest over here in the United States as well. It’s part of globalization, so this is one of the good effects of globalization, is an increased emphasis on ESG in perhaps one of the largest investment markets in the world, which is the United States.

One of the reasons that we think about public companies is they have a huge market share in the economy; also [they are] pretty significant employers. And in the last two years we’ve seen a group of CEOs come forward and raise the wage floor for employees and it includes Walmart, and Aetna, McDonalds. What I heard anecdotally is at least one of those CEOs had some pretty contentious investor calls. Can you talk a little bit about where the relationship between boards and CEOs and shareholders really come into play?

The thing that I found from my experience, and I’ve been doing this sort of thing for over 20 years, is that people in their own little camps don’t quite understand the nature of the interconnectedness of all of this.

There was a particular company that I was engaging with and they had a concern, I don’t want to identify the company, but they were in retail. And they are very good to their employees generally, and they wanted to keep certain anti-takeover measures that they have in their bylaws because they were worried that they may be put under pressure by activist investors who have said to them, "Oh, you’re paying those people much too much! You could get away with paying them a lot less. Why don’t you turn them all into independent contractors? Slash those salaries, you’ll get an extra, easily hit 10, 15 percent, that can go right to the shareholders. It goes right to the bottom line; you can send that out as a special dividend. You should leverage up, boom, boom, boom, boom, boom, boom, boom, boom!"

Now many of these activist investors also pitch public pension funds, and Taft-Hartley funds, so there’s a lot of synergies between all of these different types of conversations. What’s important to try and keep in mind and what I think [is important for] many different investment funds, particularly the public funds, is that it’s a very very long-term game for them.

What many of the companies try to keep in mind, and the particular company that I alluded to, was that they wanted to be around for the long haul, they really cared about their employees, they thought they had a great culture and they wanted to protect that.

So they might ask investors who look at anti-takeover measures askance and say, "Oh, we’re really not for that, we’ll always vote that down." [So instead] they might say, "Well in this case we’ve talked to the company; they’ve told us why they want to keep those. We’re generally in favor of people making more money, not being turned into independent contractors and losing health benefits. You know what, we’ll give this company a pass on getting rid of their classified board. We’ll give this company a pass on a right to call a special meeting—because if we don’t and they’re under pressure from an activist, that activist will force them to make changes that we don't really want them to make, that’ll hurt their employee base. It may also hurt their business, but will certainly hurt their employee base."

So the question about long-termism isn’t just about two years versus two quarters, it’s really about 20 years, versus two years versus two quarters. And I don’t think that governance advocates, which is what I call the public funds, the union funds and many of the "social investors" and religious institutions—I don’t think folks completely accept that all the way around yet. But the time is coming.

I think you started to unpack something I was going to ask as a follow-up question, which is this issue of, what is an activist investor? And it sounds like there’s a spectrum and they’re coming at this engagement issue from a lot of different places. You seem to have one bucket of governance advocates. Can you just talk a little bit more about what are the other buckets?

Let’s talk about shareholder activists first because they’re, in a way the most popular, they’re the ones on the newspapers. Groups like Starboard, groups like Trian, Pershing Square, Barington, those are activist investors. Many of those types of activist investors are operational investors. They tend to look at the company, they tend to try to figure out if the company can be operated better, can be run better. Are there certain practices, polices, marketing strategies that the company should undertake to improve shareholder value? It’s hard to see further than five years, but they try to take a look at that.

Then there are activists like Carl Icahn [of Ichan Enterprises], who is basically more of a financial engineering activist, he’s sort of, "Give me the share repurchases." For example with Apple a couple years ago, he tried to press them to re-purchase $50 billion dollars’ worth of their stock. "Take the $50 billion, take some of this money you’ve got, and re-purchase shares with $50 billion of it." He tends to look more at, "Where can I make the money and where can I make it more quickly?" As opposed to operations and figuring out how to try and increase the revenue of the company, and the earnings of the company over the longer term—in many cases, not in all cases.

And then we come to the governance advocates. The governance advocates is a relatively wide pool but, I would say they include the public pension funds, I would say that they include the Taft-Hartley Funds, so those are the union funds. Teamsters, AFSCME, Change to Win are some of the big primary union funds that are very very active, follow a lot of proposals, engage with a lot of companies. On the public pension fund side it would be New York City, CalPERS, New York State Comptroller, New York City Comptroller... those groups.

Then there are the smaller endowments and foundations. They tend to be much much smaller, in some cases than even the Taft-Hartley and union funds. And so many of them band together in different groupings. Religious institutions who are shareholders. So those groups tend to work in tandem. The public funds, the religious and endowments, foundations and Taft-Hartley funds work together. A group like Ceres works with those groups. So there are different groups.

So when people say "the institutional investor community" I say, well that’s not one community; that’s a set of different communities. But activism is different.

So the question about long-termism isn’t just about two years versus two quarters, it’s really about 20 years, versus two years versus two quarters. And I don’t think that governance advocates, which is what I call the public funds, the union funds and many of the "social investors" and religious institutions. I don’t think folks completely accept that all the way around yet. But the time is coming.

The governance advocates are engaged in a kind of activism, but I just decided to call them governance advocates because the activism of these groups, led basically by the public pension funds due to their size, they tend to not to be looking for an extra quarter or nickel or dime in terms of earnings for the stock.

Their view, as Anne Sheehan of CalSTRS once said is, “We’re going to be involved as an investor, as long as there are public school teachers in California.” Now that’s not a 10, 20, or 30 year view, that’s a 40 year view, and as long as nothing happens to California and public school teachers, that could be a 100-year view! So that’s a little bit longer than say, the outlook of say BlackRock, TIAA-CREFF or others where they’re thinking maybe 10 years. CalSTRS need to like 25, 30, or 40 or 50 years because they’ve got people coming into their system now who will retire in 30 or 40 years.

So, it’s a little bit different, and that’s why they’re not looking for a nickel here or a quarter here, they’re actually thinking about the entire enterprise. And they view risk, particularly reputational risk and actual risk to earnings, differently I think than other funds do.

So big picture, you’re working in the engagement space, you’re working with these big corporations and investors and it seems like there’s an increasing number who want to see capitalism actually work to create prosperity for many people, not just a few people. Are there any trends that you’re seeing where this is coming up? What’s the opportunity set, is there anything that we’re missing, that you would like say, "Hey, we should be doing more of X"?

I think the leading companies, the large Fortune 100, Fortune 200 companies, are trying to think through what’s going to happen next. I think many of them take both ESG and CSR seriously and are striving to find ways to make some of those connections. I think the difficult connection to really make are those who want to change poverty and income inequality is finding all the different connecting strands. The one strand that’s most mentioned is the one about, if the CEO pay were lower than maybe the inequality wouldn’t be so bad, but that money wouldn’t necessarily go to employees or fo to shareholders. We don’t know where that money would go, quite honestly.

It’s sort of difficult to tell that if you do X, Y will happen, but I think a concerted effort, a collaborative effort, would probably be better than one where we use the SEC as investors to make companies do X or Y, or we use the law to do that.

The last time that happened was really that [Internal Revenue Code Section] 162(m)and most of your listeners aren’t familiar with that, but that was the rule that allowed companies to write off any CEO salary over a million dollars if you could prove that it was performance based. Before than you didn’t have a lot of those 200 million dollar CEO pay things. So this is one of those things that led, that sort of opened the door, and it was supposed to limit CEO pay and it did really just the opposite. It stoked the fires and set the stage for where we are now.

We really need to think through carefully how we want this done, and to the extent that those discussions can be collaborative, then maybe the unintended consequences won’t necessarily be quite as dramatic as they are when we look at CEO pay for example.